Why We Might Not Be Able To Return to Growth

– The basic Rogoff/Reinhart observation that financial collapses due to asset bubbles just take a long time to work through. Given the size of the 2008 collapse, historical evidence suggests that it’s going to take five or six years to recover, and that’s that.

– The Tyler Cowen “Great Stagnation” hypothesis. We’ve picked through all the low-hanging economic fruit over the past century, and like it or not, we’re now entering an extended period of low productivity growth because we’re not inventing lots of cool new stuff.

– The related (I think) investment drought hypothesis. Ben Bernanke famously ascribed the housing bubble partly to a “savings glut” from overseas, and the flip side of that is an investment drought. The reason financial assets became so popular is that, even with all that money sloshing around the system, there simply weren’t very many high-quality investment opportunities available in firms that make real-world goods and services, and that hasn’t changed.

– The peak oil theory. Production of oil has pretty much maxed out, which means that every time the economy gets moving it will create a spike in oil prices, which will send the global economy back into recession. We’re now in a continual oil-fueled boom/bust cycle that limits our long-term growth rate.

However, I also subscribe to 4) – the view that energy supply is a short-term-indispensible input to economic activity and that the liquid fuel component of the energy supply is currently constrained enough that significant bursts of economic growth will quickly run into this constraint and trigger oil price shocks. We’ve had two of those now in the last few years (2005-2008 and 2010-2011) and I’ve no doubt we’ll see more. These have a strong tendency to be triggers for recessions or slowdowns. To Krugmanites this is an inconvenient fact to be more-or-less ignored but to me it’s a central fact of our times.

If 1) and 4) were our only problems the solution would be “Green Stimulus”: a massive program of investment in alternative energy and energy efficiency measures. By having the government borrow a bunch of money and use it to subsidize plugin-hybrids, electric cars, windmills, solar panels, etc, etc we could create a bunch of jobs now in the short term while setting ourselves on course to remove our oil dependence over the course of a couple of decades. Things would probably still be very tricky in the short term: we have huge sunk investments in buildings, infrastructure, and vehicles that are organized for cheap oil and those can only be changed out slowly. In the meantime, create too much economic activity and it will still trigger an oil shock. But we’d be moving in a better direction. Not, of course, that there’s any chance of the current political system delivering this, but let’s keep going with what we could do if we were smarter.

So then we have the problem of 5) too. The Chinese have cheap labor, cheap capital, cheap coal, and are buying US assets to keep their currency cheap too. This causes multiple problems for the “Green Stimulus” plan – one is that because US manufacturing is struggling to compete with Chinese manufacturing, a lot of the jobs would undoubtedly leak to China. Secondly, a large scale Green Stimulus would leave the US with an even bigger sovereign debt than it would otherwise have and it’s unclear to me how safe it is for an economically uncompetitive US to try to navigate coming decades with a huge public debt.

I’m not sure I’m convinced that lack of talent has the same impact as everything else – and I’d actually suggest an eighth reason, related to number 4 and 5, but somewhat different from either – the interconnection between oil and food, which has grown tighter and tighter..

We know that the food price spikes have an enormous impact on world events – one only had to watch North Africa and the Middle East this spring. What is less explored is the degree to which food prices drag on developing world economies – from which much of the growth in consumer spending has been coming. When you still spend 25, 30, 40 or 50% of your income on food, food price shifts have an enormous amount of effect on what disposable income you have. As the Economist wrote in 2009, during an earlier wave of the food crisis, high food prices change the economy across the world dramatically:

Meanwhile, in America among the lower end of the “middle class,” volatility in food an energy prices are simply scary – and they undercut consumer spending, If you never know whether your money will meet the end of the month, how much it will cost to fill your gas tank or feed your kids, you don’t feel very secure about shopping – period.

Yet again, as food and energy prices rise and twine together, we see an emergent slowdown. Are these the only factors? Heck no – but leaving food prices and the food-energy connection off the table misses a major point.

The other important point is this – all these reasons for an economic crisis are not equal. You can educate more workers (maybe) or you can work through a crisis (eventually), but you can’t get out of peak oil, and you have to make deeper changes than funding or waiting to disconnect fundamentals. Some of these are short term problems, or potentially short term problems. Others are longer term – and more profound. Moreover, the immediate short-term crises, once even partly resolved, dump you out further down the energy curve. They also will be dumping us out further into a growing climate crisis, which quite clearly will absorb more and more of world GDP. It isn’t even running ever-faster to keep in place – no matter how fast you run, you fall behind. The only answer is to change the game.